Why You Should Care About the Panama Papers

May 1, 2017, 12:40 PM

In his 2009 statement exhorting taxpayers to come forward, IRS Commissioner Doug Shulman predicted,[f]or taxpayers who continue to hide their head in the sand, the situation will only become more dire. With the release of the Panama Papers on May 9, 2016, it appears that the situation has, indeed, become more dire, but just how much more is the subject of debate.

When the German newspaper, Suddeutsche Zeitung, and the International Consortium of Investigative Journalists obtained millions of leaked client documents now known as the Panama Papers from the files of Panamanian law firm Mossack Fonseca, it was the biggest data leak in history. The leak, engineered by an anonymous individual identified only as John Doe, exposed the widespread use of offshore accounts and shell companies to conceal assets. Tax authorities worldwide, including the IRS, wasted little time in organizing and participating in two global meetings of the Joint International Tax Shelter Information and Collaboration network in April to plan how to use the Panama Papers to catch tax evaders.

Some practitioners who have accessed the Panama Papers database claim to have generated thousands of United States hits for entities, intermediaries, and individuals, suggesting there may be a significant U.S. connection. The leaked documents, however, do not reveal whether the structures involved are lawful or not, or whether they have been properly reported to the IRS or other tax authorities. The IRS and the Justice Department are likely comparing the data with filings or other information that may reveal tax noncompliance, or worse.

Initially, practitioners believed that the data leak would not reveal large-scale noncompliance by U.S. taxpayers that hadn't already been disclosed or addressed. Thus far, the experience of U.S. tax professionals appears to confirm the Panama Papers leak is not really a U.S. story, and Mossack Fonseca does not seem to have been heavily involved in offshore activities of U.S. taxpayers. As prosecutors, news organizations and others continue reviewing the data, that view may change significantly. In the interim, the primary impact of the Panama Papers in the U.S., will be to further raise awareness about how bank secrecy works around the world--and how easily secrecy is breached. Given how much press FATCA and the effects of both FATCA and data breaches receive on a daily basis, awareness should be quite high already.

Outside the United States, the Panama Papers may perform an important public service by shedding light on crony capitalism and tax evasion, which are particularly problematic for poor and middle-income countries. Inside the U.S., it has provided further justification for disclosure as a way to combat tax evasion and illicit financial activities. For example, the Department of the Treasury announced May 9 that it was sending legislation to Congress that would require a business to disclose foreign beneficial ownership information at the time of its creation; specifically, any domestic entity owned by a foreign person would be subject to the reporting, record-keeping and other compliance requirements presently imposed on certain foreign-owned U.S. corporations. On May 10, Senate Finance Committee ranking minority member Ron Wyden, D-Ore., citing reports of Nevada-based and Wyoming-based businesses having links to Mossack Fonseca, sent both states letters asking them to provide information and documents related to the registration and organization of the businesses, the results of any current or prior audits of the businesses, and details concerning the states' processes for reviewing and approving commercial registration agents. These come on the heels of legislation proposed prior to the release of the Panama Papers to assist with the detection of misconduct, including terrorism and money laundering, through real estate investments.

Some may argue that the Panama Papers and the ensuing reaction of government officials, while seeking to expose criminal conduct, sacrifice the privacy rights of many people who have done nothing wrong and do not plan to do anything illegal. Legal challenges to these developments and initiatives are probable. One persistent reality of which U.S. citizens and resident aliens can be certain: they are and will continue to be required to report and pay taxes on their worldwide income and disclose foreign accounts, foreign financial assets, and other foreign interests and transfers above certain thresholds. Taxpayers who intentionally fail to report income earned on bank or financial accounts or undisclosed assets on their tax returns, and fail to make the required disclosures, face significant penalties and possible criminal prosecution if discovered by the Internal Revenue Service. The likelihood of discovery has seen a significant increase in the aftermath of the Panama Papers data leak. Despite alluding months ago to the impermanence of the offshore voluntary disclosure program and streamlined filing compliance procedures, the IRS confirmed on May 7 that it does not have any plans to end those programs yet. Although the programs could be ended or changed at any time, for now, taxpayers can still correct their reporting, disclosure and tax non-compliance.